What Glaxo’s India offer says about EM affiliates

Any investor familiar with emerging markets will be aware that often find partly-owned subsidiaries and affiliates of major multinationals with their own listing on the local stock exchanges. For example, Unilever has listed divisions in India, Indonesia and Pakistan, while Wal-Mart owns Wal-Mex (Mexico) and Massmart (South Africa)

The reasons why these subsidiaries are publicly traded varies, although it sometimes reflects local rules that at some point prohibited foreign companies from being the sole owner of a local company. Where these rules have changed, the local listings can often look like an anachronism today, especially given that many of them are lightly traded.

So one might expect the shareholders in the stocks to jump at the parent multinational’s offer to buy them out at a premium. Which makes it interesting to see what’s going on with GlaxoSmithKline’s bid to increase its stake in its Indian affiliate, GlaxoSmithKline Consumer Healthcare.

Glaxo has offered to lift its holding to 75% from 43% presently, at a premium of 28% to the undisturbed share price (India’s securities regulations mean that a stock must have a public float of at least 25%, so the only way that Glaxo could go higher would be to try to buy out the whole firm). However, many of the present shareholders aren’t impressed:

Financial institutions, led by Life Insurance Corporation, have declined to participate in the open offer made by GlaxoSmithKline (GSK) for its Indian subsidiary GlaxoSmithKline Consumer Healthcare, terming the Rs 3,900-a-share offer unattractive. The institutions, which jointly hold 32 per cent stake, also include Arisaig Partners, SBI Mutual Fund and GIC.

This comes at the same time that Unilever is attempting to take its Pakistan subsidiary private , something that is also not popular with some shareholders (although Unilever’s 75% stake means that it may be able to force the deal through):

“We do not believe the offer accurately reflects the value of the company,” said Mattias Martinsson, CEO of Tundra Fonder, who manages about $40 million in a Pakistan-focused fund based in Stockholm, Sweden. “A comparison with Nestlé Pakistan would indicate that a price 30-50% higher than the Rs9,700 currently offered [would be justified]. We are thus uncertain as to how many shareholders are willing to sell before an independent valuation is conducted.”

So why are some institutions sounding keen to hold on to their stakes in these firms? Apart from the usual process of pushing for a better price, there’s a clue in an interesting paper that from Martijn Cremers (then at Yale, now at Notre Dame) that came out in early 2012 called Emerging Market Outperformance: Public?Traded Affiliates of Multinational Corporations. The title pretty much explains the findings, but here’s the abstract:

Publicly?traded emerging market affiliates of large multinational corporations (headquartered and mostly also listed in developed markets) have shown remarkably good performance over the last 14 years. These affiliates combined high performance with lower volatility, outperforming both their local market and the wider emerging markets, but not at the expense of significant greater down?side volatility. Their performance during the financial crisis was particularly good, compared to both their local markets and the developed markets, and especially so in Asia. In our analysis, we suggest two main reasons for this outperformance: improved corporate governance and a stabilizing role of the parent companies. Both seem critical specifically in financial crises. These may give these affiliates a clear comparative advantage over their local competitors that should endure in the foreseeable future.

Obviously, not every listed affiliate of a multinational has performed well, but many of them offer attractive combination of being a pure play on growing demand in an emerging economy while having some of the financial and management support that a high quality parent can provide. This makes them quite an interesting niche for EM investing – perhaps more so than the idea of buying the multinationals themselves.

It’s also interesting to note that the parent companies are offering to buy at fairly high valuations: Glaxo on a trailing P/E of 45 and Unilever on 25. They obviously put an even higher value on the very long-term prospects of these consumer demand in these countries than the market currently does. That should definitely make shareholders in the subsidiaries think carefully before rushing to accept the first buy-out price they get offered.

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